The Reserve Bank Board reduced the official cash rate by 25 basis points (quarter of a per cent) to 3.00 per cent. The next Board meeting is on February 5 2013.
The accompanying commentary is relatively upbeat, suggesting that the Reserve Bank wants to sit and pause – especially with the so-called US “Fiscal cliff” looming. Importantly, despite today’s rate cut, the variable housing rate is still almost one percentage point higher than the 41-year low (emergency rate setting) that existed from April-May 2009. The Aussie dollar rose from US104.2c to US104.5c after the decision.
What does it all mean?
The Reserve Bank knows that there are few risks in cutting rates at present. Consumers and businesses are far more conservative than in the past, so they will be reluctant to load up with debt just because interest rates have been reduced slightly. Inflation is also unlikely to ratchet markedly higher as consumers shop online and compare prices to ensure they are getting the best deal. And in the current environment with the “fiscal cliff” looming, the Reserve Bank has taken out much needed insurance, attempting to insulate the Australian economy.
There are no guarantees that the latest rate cut will provide the boost the economy needs. Interest rates have fallen by 1.75 percentage points over the past year but lending and spending have barely budged and indeed the job market has actually softened. It all gets down to confidence.
If there is one thing that central bankers fear most it is that they cut interest rates and nothing happens. That is, monetary policy becomes akin to pushing on a string. And that risk is very real in the current environment. There are more dollars invested in term and other bank deposits than owner-occupier housing loans. Add in the conservative nature of consumers and businesses and there are reasons for Reserve Bank officials to be worried.
The missing ingredient is confidence. Few are prepared to spend, invest or employ in case the US falls off the so-called “fiscal cliff”. European debt problems haven’t been solved. Aussies are more worried about job security. Then there are the shocks being faced by consumers when they open their mail – electricity, gas and water rates in particular.
Aussie consumers are being blind-sided by a small number of more costly purchases or bills rather than focussing on a raft of other goods than are cheaper or more affordable like electrical goods, travel, cars and clothing.
CommSec believes that rates have bottomed or are very close to the lows but we can’t rule out another rate cut in February if US budget negotiations are still dragging on, creating the risk of a US recession and a weaker global economy.
Interest rate decision and past cycles
- The Reserve Bank Board has cut the cash rate by 25 basis points (quarter of a per cent) to 3.00 per cent. The previous rate cuts were in October (25 basis points), June (25 basis points), May (50 basis points) and November and December 2011 (each by 25 basis points). Prior to those moves the Reserve Bank had previously lifted rates seven times from October 2009 to November 2010 – a total of 1.75 percentage points, from 3.00 per cent to 4.75 per cent.
- In the last rate-cutting cycle the cash rate fell to a low of 3.00 per cent in April 2009. In the previous rate-cutting cycle the cash rate fell to 4.25 per cent in December 2001. In the two previous rate-cutting cycles, the cash rate fell to lows of 4.75 per cent.
- The Reserve Bank looks more closely at the variable housing rate to gauge how close rates are to “normal”. Currently the variable housing rates of major banks are around 6.65 per cent, below the long-term average or “normal” rate of 7.20 per cent but well above the 41-year low of 5.75 per cent recorded in April-May 2009.
- Interestingly the RBA has omitted from the commentary its usual line that “Interest rates for borrowers have declined to be clearly below their medium-term averages”.
What are the implications of today’s decision?
- If investors haven’t got the message already, they should after today’s rate cut. That is, they need to shop around to get the best return on their money. That means looking at the returns provided by other assets like shares and property. Dividend yields on shares are at the best levels in 15 years on a trend basis while total returns on Australian residential property are growing at the fastest rates in almost 18 months.
- Today’s rate cut should have the effect of boosting consumer spending ahead of Christmas, and should in theory benefit retailers and other consumer-focussed businesses. And lower interest rates should push the Aussie dollar lower, benefiting a raft of Australian businesses. We say “should” advisedly. Consumers need confidence to spend and that is hardly in abundance at present.
- And the Aussie dollar could perversely rise, not fall, if overseas investors believe that the rate cut will protect the Australian economy from global gloom, making our investments even more attractive. Indeed the Aussie dollar did lift after the statement with some support from the upbeat commentary, suggesting no further rate cuts ahead.
- We broadly expect the Aussie dollar to hold between US102-105 cents over the coming year meaning businesses will need to constantly assess their operations and revise strategy to ensure that they remain competitive.
- The Reserve Bank is hopeful of a lift in home building, noting higher home prices, rental yields and building approvals.
- Rates are certainly not at “emergency” levels – home loan rates fell further in 2002 and 2009.
